Financial Stability is a theme that has assumed great significance worldwide since the eighties on account of numerous financial crises that mostly affected the emerging market economies (EMEs) and occasionally, the developed countries.  The increasing integration of financial markets across the world and the relative ease with which capital moves across countries has, in a way, increased the sensitivity of financial systems to macroeconomic shocks and contagion.

Financial system stability implies the absence of financial crises, or minimizing their emergence and mitigating their effects when they arise.  Maintaining confidence in the viability and operational efficiency of the financial system is an essential element of financial stability.  To achieve this, there are three important elements (Bank of England, 2004):

1.  Transparency:  Transparency acts as an effective tool to discipline policy makers and market participants. For the former, discipline is derived from their desire to maintain and enhance reputation. For the latter transparency ensures discipline by eliminating distortions in prices.

2.  Credibility:  It is important to maintain the credibility of the system as a whole. Agents must rest assured that the authorities would do everything to keep crisis at bay and act effectively in the event of a crisis.

3.  Surveillance:  Surveillance is of crucial importance in augmenting the ability of authorities to avert a crisis. Monitoring the activities of financial institutions and major participants on a regular basis, enables authorities to identify problems in individual entities that are symptomatic of systemic difficulties.